For Indians, investment in Real Estate has meant purchasing residential property for self-residence, and they consider the less commonly available option of investing in Real Estate in commercial properties like a shop and office space, etc. Although, this type of Real Estate investment often features large sizes of Rs 1 core or more in Tier 1 or Metro Cities.
Additionally, the hassles of getting a proper clearance, getting long-term leases from viable tenants and timely receipt of rents, etc. so they stop wondering why few individuals choose this investment as a potion. Of course, this is another way to gain exposure to real estate- investment in equity stoke is listed Real Estate companies.
But these types of investments are more prone to market risk and we know that real estate investment is the underlying asset, so these types of investments can be more appropriately called mid or small-cap equity investments with a high degree of volatility. So, very few individuals could include Real Estate in their portfolio. Although, over the past few years, a new method to invest in commercial Real Estate has originated in India which is the Real Estate Investment Trust or REIT.
What is RIET in Real Estate?
Real Estate Investment Trusts (REITs) are stock markets that are listed investment that allows investors exposure to Real Estate without making to buy or manage properties by themselves. In this article, we are going to discuss the key factors of Real Estate Investment Trusts (REITs) including what are they, how they perform, how they work, their taxation and whether you should invest in them or not.
What are Real Estate Investment Trusts (REITs)?
The original idea of Real Estate Investment Trusts (REITs) originated in the United States. Real Estate Investment Trusts (REITs) are very similar to Mutual Funds as they also allow multiple investors to pool their investment in both residential as well commercial investment cases, the assets are managed by a professional and designated manager. But, the underlying asset of Mutual Funds are usually Equity, Gold, Debt or a combination of these, but in the case of Real Estate, the underlying asset is primarily Real Estate Holdings or loans that are secured by Real Estate.
When any Real Estate company wants to become a Real Estate Investment Trust (REIT), it becomes the Sponsor of the Real Estate Investment (REIT) and appoints a Trustee and the Trustee holds the Real Estate Assets of the Trust in its Trusteeship and these assets are not controlled by the Sponsor of the trust. A Real Estate Investment Trust (REIT) controls its Real Estate Holdings either through the formation of a Special Purpose Vehicle (SPV) or directly. If Real Estate Investment Trusts (REITs), the Special Purpose Vehicle (SPV) is a domestic company that holds the Real Estate Assets on the behalf of the Real Estate Investment Trust (REIT) and as per rules and regulations then the Trust holds a half that is 50% or higher stake in Special Purpose Vehicle.
The Trustee appoints a Manager who will manage all the Real Estate Assets on behalf of the Trust and the manager could also make investment decisions. After the appointment of the Manager, only can the Real Estate Investment (REIT) can be registered and once it registered only then the Trust can raise money by selling the units either publicly in the stock market or by private investors.
On the most basic level, any Real Estate Investment Trust (REIT) unit can represent their part ownership of the Real Estate assets that are helped by the Trust and this entitles the unit holder to a share of the income that is generated by the Real Estate Investment Trust (REIT). Generally, a Real Estate Investment (REIT) is needed to pay out at least 90% of its Net Taxable Income to its unit holders in the form of interest and dividends.
Different types of Real Estate Investment Trusts (REITs)
Now, we will tell you about the different types of Real Estate Investment Trusts (REITs) that are available in the world-
- Residential Real Estate Investment Trust- Residential REITs are Real Estate Investment Trusts that are owned and operated by manufacturing housing and rental apartment buildings.
- Office Real Estate Investment Trust- Office REITs primarily invest in and operate office space, Their main income source is rent received from tenants and long-term leases.
- Retail Real Estate Investment Trust- Retail REITs are needed to invest at least 24% of their assets into commercial retail-like shopping malls and freestanding retail stores.
- Healthcare Real Estate Investment Trust- Health REITs primarily invest in and operate healthcare-focused Real Estate like nursing facilities, medical centers, hospitals and retirement homes, etc.
- Mortgage Real Estate Investment Trust- In mortgage REITs, an estimated 10% of investments are made into mortgages instead of physical Real Estate.
Real Estate Investment Trusts (REITs) in India
In India, the idea of a Real Estate Investment Trust (REIT) is new and the first guidelines were introduced by the Securities Exchange Board of India (SEBI) in 2007. The current Securities Exchange Board of India (SEBI) guidelines related to Real Estate Investment Trusts (REIT) in India were approved in September 2014. There are only three Real Estate Investment Trusts operating in India-
- Brookfield India Real Estate Trust
- Embassy Office Parks Real Estate Investment Trust
- Mindspace Business Parks Real Estate Investment Trust
There are other leading names in the Real Estate business such as DLF and Godrej that are likely to introduce Real estate Investment Trusts.
In India, a Real Estate Investment Trust has a 3 tiered structure that comprises a Sponsor, a Manager and a Trustee each of whom performs important functions for the trust. Their key possibilities and roles, as specified by the Securities Exchange Board of India (SEBI) are as follows-
- Sponsor- The sponsor is usually a Real Estate company that owned the assets before the creation of the Real Estate Investment Trust. The Sponsor is responsible for setting up the Real Estate Investment Trust and appointing the Trustee. The Real Estate Investment Trust (REIT) Sponsor along with the sponsor group is also mandatorily needed to hold 25% of units for the first 3 years after the establishment of the Real Estate Investment Trust (REIT). And after the completion of 3 years, the sponsor stake can be decreased to 15% of total outstanding Real Estate Investment Trust (REIT) units.
- Manager- A Real Estate Investment Trust (REIT) Manager is typically a company or agency that specializes in Facilities Management. For instance- in the case of the Brookfield Real Estate Investment Trust, Brookprop Management services Private Limites has been designated as the manager. They are responsible for managing the assets of the Real Estate Investment Trust (REIT), they do works like making investment decisions and ensuring timely reporting and disclosure by the Real Estate Investment Trust.
- Trustee- Those who choose to be a Real Estate Investment Trustee (REIT) are companies that are spec9ilaised in offering Trusteeship services. For instance- Axis Trustee Services Limited operates as the trustee for Embassy Park Real Estate Investment Trust as well as Brookfield Real Estate Investment Trust. The Trustee is only responsible for holding the assets of the Real Estate Investment Trust (REIT) in a Trusteeship for the benefit of unit holders. In addition, they are needed to oversee the activity of the manager and make sure the timely distribution of interests and dividends
In addition, the Securities Exchange Board of India (SEBI) mandates key criteria that Real Estate Investment Trusts (REITs) in India required to fulfill to qualify are as follows-
- At least 80% of investments should be made by a Real Estate Investment Trust and need to be in commercial properties that can be rented out to generate income. The remaining assets of the Real Estate Investment Trust up to the 20% limit can be held in the form o stocks, bonds, cash or any under-construction commercial property.
- At least 90% of the rental income earned by the Real Estate Investment Trust has to be distributed to its unitholders as interest or dividends.
- Real Estate Investment Trust must be enrolled in the stock market and that is mandatory.
Advantages and disadvantages of investing in Real Estate Investment Trust
The following are some of the key advantages and disadvantages of investing in Real Estate Investment Trust
- Small Initial Investment- The key issue that is associated with making Real Estate Investments is the large ticket size, especially in the case of commercial properties. Real Estate Investment Trust needs a much smaller initial investment of around Rs 50,000 to offer similar portfolio diversification advantages.
- Regular Income Generation- Real Estate Investment Trust generates income from rental collections and is needed to mandatorily distribute 90% of this income to investors as interest payments and dividends. In this way, Real Estate Investment Trusts offer regular income to investors.
- Professional Management- Properties that are owned by a Real Estate Investment Trust are managed professionally and this makes sure smooth functioning with no effort on your part towards managing Commercial Real Estate business.
- Capital Gains- Real Estate Investment Trusts are listed and traded in Stock Markets and their price relies on their performance. This offers Capital Gains to the investor as the increase in value over time can be sold at a profit.
- Taxable Dividend- Any kind of dividend or interest that is earned from Real Estate Investment Trust is completely taxable in the hands of the investor according to the applicable slab rate. Those in the 30 % tax slab will lose a substantial part of their dividend income as taxes. Another basic feature to consider before investing in Real Estate Investment Trust is the taxation rules.
- Limits Options- Now there are only three Real Estate Investment Trusts (REITs) and only one international Real Estate Investment Trust (REIT) Fund of Fund in the country. So, this limits the choices or options for investors.
- Low Liquidity- While Real Estate Investment Trusts are listed and traded on Stock Markets the number of market participants is low concerning retail investors. Resulted, selling Real Estate Investment Trust investments profitably may be challenged in an emergency and this result in low liquidity of the investment.